Category: Bank Law

The recent receivership of Skyservice Airlines Inc. highlights the importance to airline creditors of having in place a certain, easily understandable and uniformly applied regime regarding the perfection and priority of various interests in aircraft.

The Convention on International Interests in Mobile Equipment, together with the Protocol to the Convention on International Interests in Mobile Equipment in Matters Specific to Aircraft Equipment, commonly referred to as the “Cape Town Convention”, establish an Internet and notice based electronic registry system with respect to aircraft, aircraft engines and helicopters (collectively, “aircraft”). The registry allows individuals and organizations to electronically register their interests in aircraft in one central registry which is easily accessible and searchable by anyone.

The Cape Town Accord provides a simple “first to file” priority rule based on the registrations made in the new registry. The new registry system and related priority rule are simple, efficient and easy to understand by all participants, and most importantly, are intended to apply uniformly to everyone. Unfortunately, the Cape Town Conventions has not been fully implemented by many countries, including Canada. Given the need for liquidity and efficient financing by today’s airlines, and the need for certainty of remedies and protection by their lessors and financiers, it is unfortunate that the industry remains lost is a quagmire of inconsistent rules, complicated priority regimes and complex conflict of laws issues.

Currently, in order for an aircraft lessor or financier to ensure their interests are protected with respect to third parties, they are left with no choice but to determine which jurisdictions may from time to time be applicable, what the conflict of laws rules of each such jurisdiction determine to be the applicable jurisdiction for the perfection and protection of their interests, and then take the steps prescribed under each applicable jurisdiction to protect their interests. Obviously, this can be a very time consuming and expensive exercise.

For example, consider a debtor under an aircraft security agreement that is incorporated in the Province of Ontario, has its head office in the Province of Alberta, has registered the aircraft with Transport Canada and uses the aircraft on routes from Montreal, Quebec to locations in Europe. A secured party will need to understand the law of each of these jurisdictions to fully protect its interests. In this example, Ontario law provides that the relevant jurisdiction for determining the secured party’s rights is the jurisdiction where the place of business of the debtor is located, or if there is more than one place of business, the jurisdiction where the chief executive office of the debtor is located.

That determination in itself is not an easy one to make and depends on many factors that will need to be considered by the secured party, which factors will be subject to change from time to time. In the above example, and assuming that the chief executive office analysis determines that the chief executive office of the debtor is the same as the head office of the debtor, Ontario law sends the secured party to Alberta. Under a similar analysis, Alberta law also sends the secured party to Alberta.

However, as the aircraft may from time to time be located in the Province of Quebec, the secured party will need to know what the law of that Province provides. Under Quebec law, the applicable jurisdiction for determining the secured party’s rights vis-a-vis third parties is the jurisdiction of the debtor’s registered office, which is typically the jurisdiction of incorporation of the debtor. Thus, a Quebec court would look to apply the laws of Ontario, notwithstanding the fact that an Ontario court would apply the laws of Alberta. Further, as the aircraft may from time to time be in Europe, the conflict of laws rules of the applicable European country will need to understood. The conflict of laws rules of many European countries point to the jurisdiction where the aircraft is registered. In the above example, the applicable jurisdiction is Canada, as the aircraft is registered with Transport Canada.

However, Canada does not have a federal system of registration with respect to perfection or priority of interests in personal property (including aircraft); perfection and priority issues with respect to personal property in Canada is governed by provincial and territorial law. A prudent secured party, therefore, will need to look to the perfection rules of each province and territory of Canada. Other European countries look to the jurisdiction of the debtor, which in this example could be Ontario or Alberta.

Once all the applicable jurisdictions are determined, the laws of each such jurisdiction will need to be analyzed to determine what is necessary to perfect and protect (and maintain) a secured party’s interest and the priority thereof with respect to third parties. Of course, as soon as a debtor relocates its registered office, chief executive office, where it stores the aircraft or the routes that it flies, the entire analysis needs to be redone.

The Cape Town Convention and Aircraft Protocol is intended to create a simple registration system and priority regime that is uniformly applicable. For the sake of aircraft lessors and financiers, as well as their customers and clients, we can only hope that more countries adopt and implement them as soon as possible.

Anyone who perceives the syndicate agent appointment and related provisions in credit agreements as mere boilerplate, relatively unworthy of close attention, is likely doing themselves a disservice. The following is a brief overview of a few occasionally overlooked points.

Agent for Non-Signatories

The parties on whose behalf the agent is to act (collectively, the “creditors”) must formally appoint the agent as their agent. On occasion, not all secured creditors will actually sign the credit agreement (collectively, “non-signing creditors” (as distinguished from “signing creditors”)), such as cash management or hedging providers. Before any non-signing creditor is entitled to the benefits of the collateral security, such non-signing creditor should be required to deliver a simple agreement pursuant to which the agent is appointed as its agent and it agrees to the exculpatory and indemnity provisions of the credit agreement in favour of the agent. Alternatively, signing creditors might, on behalf of (and explicitly acting as agent for) any of their affiliates which are non-signing creditors, formally appoint the agent as agent for such affiliates as well as for themselves under the credit agreement.

Scope of Duties

Credit agreements typically include specific provisions to the effect that the agent has no independent duties except as may be specifically provided for in the loan documentation. The agent and the creditors should consider how to best describe the duties (and powers) of the agent in the credit agreement so that the agent can react appropriately to creditor direction. The agent will typically be authorized to take direction from a majority (or whatever the appropriate level of voting might be) of the signing creditors as to matters not expressly provided for in the loan documentation (including, for example, credit bidding). Prohibiting any creditor from taking any action to protect or enforce its rights arising out of the loan documentation without first obtaining the prior consent of the agent and a majority (or whatever the appropriate level of voting might be) of the signing creditors may offer an additional level of protection to the agent in the event of disagreement between creditors.

Reimbursement and Indemnification of Agent

It is conventional for the agent to be fully protected by the signing creditors against liability to the creditors, the borrower(s) and any guarantor(s) (collectively, the “loan parties”), and/or any third parties (except, in all cases, to the extent of gross negligence or wilful misconduct on the part of the agent). This indemnity will usually also cover all losses suffered and expenses incurred by the agent, including the non-payment of any fees owed to the agent. It is also conventional to provide for reimbursement and indemnification by the loan parties of the costs and expenses of the agent and of the creditors.

Related issues to consider from the agent’s perspective include:

specifying that the agent’s indemnities apply notwithstanding the comparative, contributory, or sole negligence of the agent;

specifying that the agent’s indemnity from the creditors applies to claims by creditors against the agent;

authorizing the agent to refrain from acting on the direction of the creditors if in the opinion of the agent its indemnities are insufficient or the ability of the agent to potentially make a claim thereunder has been impaired; and

ensuring that the obligations secured by any liens granted in favour of the agent (the “secured obligations”) include loan party obligations in respect of reimbursement and indemnification, and that such liens are granted to the agent in its own capacity as well as for the benefit of the creditors.

The agent will, however, usually have to accept any risk associated with collecting from the creditors their respective shares of any amounts owing to the agent pursuant to its indemnity from the creditors.

Contingent Obligations

The agent should also ensure that the secured obligations include contingent obligations. This way, unless a reserve (or letter of credit or similar protection) is provided for its benefit, the agent could potentially refuse to discharge its liens upon termination of the credit agreement if there remains a reasonable possibility that it may need to claim against the loan parties for reimbursement and/or indemnification. This may be particularly useful to the agent in a bankruptcy or insolvency scenario if the creditors propose to settle their claims against the loan parties notwithstanding the agent’s potential exposure to continuing contingent liability. It is similarly desirable, albeit uncommon, for the agent to be specifically authorized to withhold reserves from distribution proceeds after default in respect of future amounts anticipated to become payable to the agent pursuant to reimbursement and indemnification provisions of the loan documentation.

Provisions Surviving Termination

More generally, the agent should ensure that all reimbursement and indemnification obligations in its favour survive not only termination of the credit agreement but also the resignation or dismissal of the agent (accordingly extending to any post-transaction activities of a former agent in connection with an agency succession) or departure of a creditor from the syndicate.

The agent should also consider bargaining at the outset that any creditor sponsored entity emerging in a bankruptcy or insolvency scenario from a bid by the creditors shall assume (ideally on a secured basis) the reimbursement and indemnification obligations of the loan parties.

UniformityAs previously described (PDF) a series of significant amendments to the Personal Property Security Act (Ontario) (the Ontario PPSA) were introduced through the Ministry of Government Services Consumer Protection and Service Modernization Act, 2006 (the Ontario Act) in 2007. Certain provisions of the Ontario Act have yet to be proclaimed into force, including certain amendments that would alter the “location of debtor” rules under the Ontario PPSA.

Current Rules

The Ontario PPSA contains conflict of laws rules which point to the law of the jurisdiction where the debtor is located to determine the validity, perfection, the effect of perfection or non-perfection and the priority of security interests in:

(i) intangibles (including accounts),

(ii) goods that are of a type normally used in more than one jurisdiction (if the goods are equipment or inventory leased or held for lease by a debtor to others– sometimes referred to as mobile goods), and

Under these rules, the location of the debtor is deemed to be located:

(iv) at the debtor’s place of business if there is one;

(v) at the debtor’s chief executive office if there is more than one place of business; and

(vi) otherwise at the debtor’s principal residence.

Determining a debtor’s location for purposes of Ontario PPSA conflict of laws rules is rarely straightforward because the term “chief executive office” is not defined in the Ontario PPSA. Consider the following scenario. A Nova Scotia company has its registered or head office in Toronto, has offices in three other Canadian provinces, including executive offices in Calgary and Regina, and is controlled from the head office of its parent corporation in Missouri. Which of these offices is the “chief executive office”? That question is not easily answered and typically leads to lawyers registering in each jurisdiction where the “chief executive office” could potentially be located. This approach is inefficient and costly.

Amendments

The Ontario Act proposes to amend the conflict of law rules such that the location of a business debtor is no longer defined by reference to the debtor’s place of business or chief executive office. Instead, the location of the debtor will be determined by rules (shaded gray) regarding the debtor’s jurisdiction of incorporation, which are much easier to apply. This would also make the Ontario PPSA rules regarding the location of a debtor substantively similar to those under Article 9 of the Uniform Commercial Code.

As noted above, amendments to “location of debtor” rules in the Ontario PPSA are not yet in force. It seems the Ontario government is waiting for other Canadian jurisdictions to follow suit before proclaiming the “location of debtor” amendments into force; uniformity of rules being the objective. A step toward uniformity was taken on March 31, 2010 when Bill 6 received Royal Assent in the British Columbia Legislature becoming the Finance Statutes Amendment Act, 2010 (the BC Act) (see s.43). The BC Act includes amendments to the Personal Property Security Act (British Columbia) (the B.C. PPSA) that adopt the same “location of debtor” rules as the Ontario PPSA. However as with the “location of debtor” rules in the Ontario Act, the B.C. PPSA amendments will not come into force immediately.

We will continue to provide updates in this space as to the progress of PPSA amendments across the remaining Canadian provinces and territories.